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  • www.macroadvisers.com www.twitter.com/macroadvisers The forecasts provided herein are based upon sources believed by Macroeconomic Advisers, LLC, to be reliable and are developed from models that are generally accepted as methods for producing economic forecasts. Macroeconomic Advisers, LLC, cannot guarantee the accuracy or completeness of the information upon which this Report and such

    forecasts are based. This Report does not purport to disclose any risks or benefits of entering into particular transactions and should not be construed as advice with regard to any specific investment or instance. The opinions and judgments expressed within this Report made as of this date are subject to change without notice.

    Laurence H. Meyer

    Senior Managing Director

    Global Interdependence Centers Central Banking Series

    Federal Reserve Bank of St. Louis

    September 25, 2015

    What are They Waiting For?

  • Why Not September?

    Recent global and financial developments are likely to put further downward pressure on inflation in

    the near term. -FOMC Statement, September 17, 2015

    In light of the heightened uncertainties abroad and a slightly softer expected path for inflation, the

    Committee judged it appropriate to wait forsome further improvement in the labor market

    -Chair Yellen, Press Conference, September 17, 2015

    These developments have not led to a significant change in the Committees outlook for the U.S. economy.

    -Chair Yellen, Press Conference, September 17, 2015

    September, 2015 1 2015 Macroeconomic Advisers, LLC

    *Bolding added by MPI

    Source: Federal Reserve.

  • 2015 2016 2017 2018

    Growth of Real GDP

    September Projections 2.1 2.3 2.2 2.0

    June Projections 1.9 2.5 2.3 N.A.

    MA 2.3 2.5 2.2 N.A.

    Unemployment Rate

    September Projections 5.0 4.8 4.8 4.8

    June Projections 5.3 5.1 5.0 N.A.

    MA 5.1 4.8 4.7 N.A.

    Core PCE Inflation

    September Projections 1.4 1.7 1.9 2.0

    June Projections 1.3 1.8 2.0 N.A.

    MA 1.4 1.7 1.8 N.A.

    September, 2015 2015 Macroeconomic Advisers, LLC 2

    Macro Outlook

    The Broad Contours of the Forecast

    Note: For FOMC projections, values correspond to the medians of FOMC participants' projections. Values are Q4/Q4 rates (growth and inflation) and Q4

    averages (unemployment rate). Source: MPI/Macroeconomic Advisers, Federal Reserve.

  • Basic Contours of Forecast Unchanged

    September, 2015 3 2015 Macroeconomic Advisers, LLC

    FOMCs Revision to Q4/Q4 Real GDP Growth

    Source: MPI/MA, Federal Reserve.

    FOMCs Revision to Q4/Q4 Core PCE Inflation

    -0.3

    -0.2

    -0.1

    0.0

    0.1

    0.2

    0.3

    2015 2016 2017

    pp pp

    -0.2

    -0.1

    0.0

    0.1

    0.2

    2015 2016 2017

    pp pp

  • Gap Between Actual and Potential Growth

    September, 2015 4 2015 Macroeconomic Advisers, LLC

    Source: MPI/MA, BEA.

    0

    0.2

    0.4

    0.6

    0.8

    1

    1.2

    1.4

    2014 2015 2016 2017

    Percentage Points

    Gap Between Actual and Potential GDP

    Growth

    2015 2016

    Longer-

    Run

    MA 1.5 1.4 2.0

    Board Staff 1.5 1.5 ?

    FOMC

    Participants ? ? 2.0

    Forecasts for the Growth of Potential GDP

  • Financial Conditions Deteriorate

    September, 2015 5 2015 Macroeconomic Advisers, LLC

    1800

    1900

    2000

    2100

    2200

    2300

    2014 2015 2016 2017

    Index

    H F

    S&P 500

    current

    forecast

    last

    forecast

    0.0

    0.5

    1.0

    1.5

    2.0

    2.5

    3.0

    3.5

    4.0

    4.5

    5.0

    15:Q3 15:Q4 16:Q1 16:Q2 16:Q3 16:Q4

    Percent different from June Forecast

    Revision to Nominal Trade-

    Weighted Dollar

    0

    5

    10

    15

    20

    25

    30

    35

    40

    45

    50

    55

    60

    15:Q3 15:Q4 16:Q1 16:Q2 16:Q3 16:Q4

    Revision to BAA Spread

    Over Ten-Year Treasury

    Basis Point difference from June Forecast

    Source: MPI/MA.

  • 80

    85

    90

    95

    100

    105

    110

    115

    120

    2011 2012 2013 2014 2015 2016 2017

    Index, 13:Q4 = 100

    Nominal

    Trade-Weighted Dollar

    H F

    80

    85

    90

    95

    100

    105

    110

    115

    120

    2011 2012 2013 2014 2015 2016 2017

    Index, 13:Q4 = 100

    Nominal

    Trade-Weighted Dollar

    40

    50

    60

    70

    80

    90

    100

    110

    120

    130

    2011 2012 2013 2014 2015 2016 2017

    $ per barrel

    Brent Crude Oil Price

    H F

    Global Forces as Downside Risks

    September, 2015 6 2015 Macroeconomic Advisers, LLC

    1.5

    2.0

    2.5

    3.0

    3.5

    2012 2013 2014 2015 2016 2017 2018

    Percent

    Trade-Weighted Rest-of-World Growth

    current

    forecast

    last

    forecast

    July 8, 2014

    forecast

    -2.1

    -1.8

    -1.5

    -1.2

    -0.9

    -0.6

    -0.3

    0.0

    0.3

    0.6

    Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4

    Net Exports

    contribution to growth

    pp

    H F

    current

    forecast

    July 8, 2014

    forecast

    last

    forecast

    40

    50

    60

    70

    80

    90

    100

    110

    120

    130

    2011 2012 2013 2014 2015 2016 2017

    $ per barrel

    Brent Crude Oil Price

    H F

    Source: MPI/MA.

  • Source: MPI/MA, BEA.

    A Setback to Firming Core Inflation

    Core PCE in Hand at Next Two Meetings

    September, 2015 7 2015 Macroeconomic Advisers, LLC

    Core PCE Set to Rebound This Fall

    0.6

    0.8

    1.0

    1.2

    1.4

    1.6

    1.8

    2.0 Percent, annual rate

    6-month

    12-month

    H F 6-mo 12-mo

    September 1.66 1.24

    October 1.66 1.31

    December 1.50 1.37

  • The Phillips Curve and Inflation Dynamics

    September, 2015 8 2015 Macroeconomic Advisers, LLC

    -1.0

    -0.5

    0.0

    0.5

    1.0

    1.5

    2.0

    2.5

    Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4

    Percentage points H F

    Phillips Curve Projection/Decomposition of Core PCE Inflation

    inertia

    Pull from

    inflation

    expectations

    shock

    dollar

    Source: MPI/MA.

    slack

    oil

    2014 2015 2016

  • Phillips Curve:

    = 3 3 + + 1 +

    Loss Function:

    = (6 6)2 + ( )2

    What Does Full Employment Mean?

    September, 2015 9 2015 Macroeconomic Advisers, LLC

  • Not Enough Improvement Yet!

    September, 2015 10 2015 Macroeconomic Advisers, LLC

    Source: MPI/MA, BLS.

    0

    2

    4

    6

    8

    10

    0

    125

    250

    375

    500

    625

    2012 2013 2014 2015 2016 2017

    Thousands

    Unemployment Rate

    (right axis) Nonfarm Payrolls

    avg. monthly change

    (left axis)

    Percent H F

    Unemployment Rate and NFP Growth

  • Why Not September?

    September, 2015 11 2015 Macroeconomic Advisers, LLC

    While the unemployment rate is close to most FOMC participants estimates of the longer-run normal level, the participation rate is still below

    estimates of its underlying trend, involuntary

    part-time employment remains elevated, and

    wage growth remains subdued.

    -Chair Yellens Press Conference, September 17, 2015

    *Bolding added by MPI

    Source: Federal Reserve.

  • Whats Yellen Waiting For?

    September, 2015 12 2015 Macroeconomic Advisers, LLC

    Source: MPI/MA, BLS.

    -1.0

    -0.5

    0.0

    0.5

    1.0

    1.5

    2.0

    2.5

    3.0

    3.5

    1994

    1996

    1998

    2000

    2002

    2004

    2006

    2008

    2010

    2012

    2014

    Gap relative to 94-07 average

    Part-time Employment for Economic

    Reasons

    -4.0

    -2.0

    0.0

    2.0

    4.0

    6.0

    8.0

    10.0

    1994

    1996

    1998

    2000

    2002

    2004

    2006

    2008

    2010

    2012

    2014

    Gap relative to 94-07 average

    U3

    U6

    Gap Between U3 and U6 Continues to

    Narrow

  • Whats Yellen Waiting For?

    September, 2015 13 2015 Macroeconomic Advisers, LLC

    Source: MPI/MA.

    62

    63

    63

    64

    64

    65

    65

    66

    66

    67

    67

    2005

    2006

    2007

    2008

    2009

    2010

    2011

    2012

    2013

    2014

    2015

    2016

    2017

    Percent

    Labor Force

    Participation Rate

    H F

    Cyclical Rebound in Participation Rate to

    Slow Decline in the Unemployment Rate

    0.0

    0.5

    1.0

    1.5

    2.0

    2.5

    3.0

    3.5

    4.0

    4.5

    5.0 Percent

    Employment

    Cost Index

    H F

    Wage Growth Expected to Pickup

  • FOMC Still Sees 2015 As Most Likely Liftoff

    September, 2015 14 2015 Macroeconomic Advisers, LLC

    Sources: MPI/Macroeconomic Advisers, Federal Reserve.

    -0.25

    0.00

    0.25

    0.50

    0.75

    1.00

    1.25

    1.50

    1.75

    2.00

    2014.5 2015 2015.5

    Median dots consistent with

    one 25-basis-point hike this

    year (most likely December)

    The dots indicate that 13 of 17 participants still expect a rate hike this year.

  • Liftoff Probabilities

    September, 2015 15 2015 Macroeconomic Advisers, LLC

    Percent

    *Implied by fed funds futures quotes from September 21, 2015.

    Sources: MPI/Macroeconomic Advisers, Bloomberg

    At Which FOMC Meeting Is Liftoff Most Likely?

    0

    10

    20

    30

    40

    50

    60

    October December

    MPI

    Market*

    Market*

    MPI

  • Liftoff Probabilities

    September, 2015 16 2015 Macroeconomic Advisers, LLC

    Percent

    *Implied by fed funds futures quotes from September 8, 2015.

    Sources: MPI/Macroeconomic Advisers, Bloomberg

    Whats the Probability of a Rate Hike by Each Meeting?

    0

    10

    20

    30

    40

    50

    60

    70

    October December

    MPI

    Market*

    Market*

    MPI

  • After Liftoff: Pace of Rate Hikes

    September, 2015 17 2015 Macroeconomic Advisers, LLC

    Three Views on Pace

    Source: MPI/Macroeconomic Advisers, Bloomberg, and Federal Reserve.

    Note: For each year in question, a dot represents an FOMC participant's view on the appropriate year-end

    value of the funds ratedark dots denote the median view. OIS forward rates are for the one-month rate at the end of the year in question. The MPI path is our expected year-end value.

    2015 2016 2017

    Percent

    OIS

    MPI

    -1

    0

    1

    2

    3

    4

    5

    2014 2015 2016 2017 2018 2019Longer Run

  • *Bolding added by MPI

    Source: MPI/Macroeconomic Advisers, BLS, Federal Reserve

    End Game: Undershoot the NAIRU?

    September, 2015 18 2015 Macroeconomic Advisers, LLC

    -2.0

    -1.5

    -1.0

    -0.5

    0.0

    0.5

    1.0

    1994 1997 2000 2003 2006 2009 2012 2015

    Percent, 4th/4th

    H F

    Overshooting the (Core)

    Inflation Target?

    -2.0

    -1.0

    0.0

    1.0

    2.0

    3.0

    4.0

    5.0

    1994 1997 2000 2003 2006 2009 2012 2015

    Undershooting the NAIRU

    Percent

    H F

    A lot of people that are currently long term unemployed, theyve been out of work for a very long time. This is obviously very bad for them, but its also very bad for the economy as a whole. Allowing the economy to run a little hot would make it more likely that inflation would actually

    move up towards the 2 percent objective. And two, it would pull some of these long term

    unemployed back into the workforce. - President Dudley, October 6, 2014

  • Source: MPI/Macroeconomic Advisers, Federal Reserve

    How Does the FOMC Respond?

    September, 2015 19 2015 Macroeconomic Advisers, LLC

    -12.0

    -10.0

    -8.0

    -6.0

    -4.0

    -2.0

    0.0

    2.0

    4.0

    1994 1997 2000 2003 2006 2009 2012 2015

    Percent

    *The actual or prescribed fed funds rate (or its forecast) minus the estimate of the long-run fed funds rate (r* + 2%) at that time.

    H F

    Yellen (2012) Rule Gap

    Funds Rate Gap

    FOMC Raises Funds Rate Above the LR Equilibrium Rate

  • The Buffer and the Inflation Objective

    September, 2015 20 2015 Macroeconomic Advisers, LLC

    Frequency of Hitting the Zero Lower Bound

    Size of the Buffer 2 3 4

    Frequency 20% 9% 5% These probabilities are derived from Williams (2009). Williams used data from 1968-2002.

    Source: Williams (2009), MPI/MA.

  • Buffer

    Frequency

    of Hitting

    the ZLB

    2 2 4 5

    1 2 3 9

    1 3 4 5

    2 2 20

    3 3 9

    4 4 5 These probabilities are derived from Williams (2009). Williams used data from 1968-2002.

    Combinations of r* and

    September, 2015 21 2015 Macroeconomic Advisers, LLC

    Source: Williams (2009), MPI/MA.

  • Source: Federal Reserve. Bolding added by MPI.

    Statement of Strategy of Monetary Policy

    In setting monetary policy, the Committee seeks to mitigate

    deviations of inflation from its longer run goal and deviations of

    employment from its maximum level. These objectives are generally

    complementary. However, under circumstances in which the

    Committee judges that the objectives are not complementary, it

    follows a balanced approach in promoting them, taking account of

    the magnitude of the deviations and the potentially different

    time horizons over which employment and inflation are projected

    to return to levels judged consistent with its mandate

    - FOMC Statement on Longer-run Goals and Monetary Policy Strategy, adopted effective as of Jan 24, 2012, and amended effective as of January 27, 2015

    September, 2015 22 2015 Macroeconomic Advisers, LLC